We Think Suning.com (SZSE:002024) Is Taking Some Risk With Its Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Suning.com Co., Ltd. (SZSE:002024) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Suning.com

What Is Suning.com's Debt?

As you can see below, Suning.com had CN¥41.4b of debt at September 2024, down from CN¥43.3b a year prior. However, it also had CN¥27.1b in cash, and so its net debt is CN¥14.3b.

How Strong Is Suning.com's Balance Sheet?

We can see from the most recent balance sheet that Suning.com had liabilities of CN¥92.2b falling due within a year, and liabilities of CN¥16.4b due beyond that. Offsetting these obligations, it had cash of CN¥27.1b as well as receivables valued at CN¥5.94b due within 12 months. So its liabilities total CN¥75.6b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the CN¥18.6b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Suning.com would probably need a major re-capitalization if its creditors were to demand repayment.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Suning.com shareholders face the double whammy of a high net debt to EBITDA ratio (10.4), and fairly weak interest coverage, since EBIT is just 0.45 times the interest expense. The debt burden here is substantial. One redeeming factor for Suning.com is that it turned last year's EBIT loss into a gain of CN¥475m, over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Suning.com's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, Suning.com actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

To be frank both Suning.com's interest cover and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But on the bright side, its conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. Overall, it seems to us that Suning.com's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. Even though Suning.com lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check out how earnings have been trending over the last few years.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.